

Why ESG Investing Is Here to Stay

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Andrew Lee

Nicole Fara Silver
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There’s bad news and good news about sustainable and impact investing in the U.S., says Andrew Lee of UBS.

The bad: Adoption is slow, with just 12% of U.S. investors owning sustainable investments. The good is that sharp growth may lie ahead. UBS expects adoption to increase by 58% within five years.

Sitting down with Barron’s, Lee, who is UBS Wealth Management Americas’ top strategist for sustainable and impact investing, argues that ESG is here to stay, even though confusing terminology and muddy expectations are challenges.

Barron’s rankings of the most sustainable funds found that the group beat the broad market in 2018, 2017, and 2016. Why does companies’ meeting ESG standards help improve their performance?

A number of academic studies show a tie between corporations performing better from an environmental, social, and governance, or ESG, perspective and how that relates to financial performance.

What you’ve seen more recently—whether it’s issues related to data privacy impacting the technology sector or the climate-related bankruptcy of a large utility in California—is that companies are increasingly tying the cost of their debt to how sustainable they are. Companies that consider ESG issues tend to outperform because they think about the interlinkage between all of these issues and their profitability.

Assets are not flowing into ESG products in the U.S. to the extent that they have in Europe. Why do you think that is?

I see different factors. The regulatory backdrop is certainly different in Europe, in terms of what is encouraged or mandated. And then, from an institutional leadership perspective, you don’t have institutions in the U.S. investing sustainably—as they have done for a long time in Europe.

There is also persistent confusion around labeling of sustainable investing products, as well as questions about how the impact can be measured or quantified. Those factors, taken together, can hold people back from committing more capital.

Certainly, U.S. asset flows currently are not where they are relative to Europe and Asia, but our expectation is that growth off these lower levels will be higher in the U.S. and Asia versus Europe. On a go-forward basis, we think there is significant opportunity.

You have spoken about the confusing labeling of some ESG products: Last year, an ESG critic wrote in Barron’s about a socially responsible investing fund whose top holdings included an oil company, a tobacco company, a chemical maker, and a liquor company.

There are two things at play here, the first of which is the labeling of funds and how funds are positioned.

There is no standardization in terms of how things are labeled, and so there’s pretty interchangeable usage of SRI [socially responsible investing], VBI [values-based investing], sustainable, impact, and ESG. I think that confuses investors. That’s something that we as an industry need to work more broadly on.

And then, the historical approach [in screening out companies] is where we have come from. While that lets investors be comfortable that they know what is not going to be in their portfolio, it’s clear that the focus from an investor’s perspective has shifted more to integration and impact investing and more-active approaches to considering ESG in the investment process.

There are strategies that can [legitimately] include some of those industries or individual companies. There are various reasons they can be in there—the fund manager might be looking to engage with those companies as they shift their business models over time, or might have [another] view as to why they are included in the portfolio. But it points to the need for better labeling to avoid confusing people, better reduction in complexity.

ESG analysis is often associated with value stocks. Can it be used to evaluate growth stocks?

Our perspective is that you actually should be able to use ESG factors as part of an evaluation of any company, across sectors, company types, market-cap sizes, and geographies.

If you think about some of the most recent additions to the public market that have an ESG bent in their business model and how they operate, Beyond Meat (ticker: BYND) just went public. That’s certainly a growth stock, where the business model is sustainability oriented. So I don’t think [ESG filters are] just for one particular style of equity.

What are three marching orders that you’d give the ESG investment industry right now to better position itself to consumers and advisors?

It comes down to reducing investor confusion, so I would say simplification or reduction of complexity. The second thing would be increasing awareness and understanding of the benefit of focusing on sustainability considerations, as well as the broader challenges that need to be addressed through private capital.

The third is collaboration on increasing the number of products and solutions that are out there that can really credibly address the broader environmental social challenges that we face as a planet.

Thanks, Andy. •

Write to Steve Garmhausen at stephen.garmhausen@dowjones.com